The first things to understand when negotiating with a bank is to understand leverage. What gives a club director leverage? It’s all the things we’ve discussed so far and making sure all these things are in place before going to the bank to request consideration of a loan. Things like making sure you have a great set of historical financial statements, which are the book a bank reads from when considering a loan request. Additionally, understanding the 5’s C’s discussed in Part 2 are mission critical, things like Character, Capacity, Capital, Collateral, and Conditions must be evaluated and clearly communicated when dealing with the bank in an effort to get the best deal. These things provide a club director with leverage – the leverage necessary to get the best rate, term and covenants for their club.

Rate

Let’s first discuss rate and why it’s so important. I’ll communicate this initial consideration with a few numbers. If a club is requesting a $2,500,000 loan from a bank it’s very important to get the lowest, fixed-rate possible. Even a quarter point matters, because the difference in a quarter-point on a $2,500,000 loan is over $6,000 in interest that could be saved every year. Imagine how that adds up over the course of a 20-year loan on a facility. However, the actual rate is not the only thing that’s important when it comes to rate and you probably noticed I said “fixed-rate” above. The differences between a fixed rate and a floating rate could be exaggerated especially in a rising rate environment, which we are currently in within the United States. A fixed rate is exactly what it sounds and is fixed throughout the entire term of the loan. In contrast, a floating rate loan is usually tied to an index like WSJ Prime and could rise rapidly, which will serve to increase the monthly a quarterly payment a club director has to make.

Term and Amortization

Term and amortization are also very important as they are with our personal mortgages. However, term and amortization may be more important with a commercial loan because the numbers are often so much bigger. In addition, it’s also important to know that the commercial markets are often significantly different than the consumer markets that drive individual mortgages on our primary residences. Commercial markets are often different because the banks are holding these mortgages vs. selling them into the secondary market, which means they don’t want to take as much long-term rate risk. Because of this fact, banks will typically structure a commercial mortgage with a relatively short maturity (say 5-years), but allow a borrower to keep the payments low by offering a 15 or 20-year amortization. A 5/15 is a very common structure for a commercial loan meaning the loan will mature in 5 years, but monthly payments will be based on a 15-year amortization. As you can probably see, this creates a “balloon” payment at the end of 5 years, which may either be paid off or refinanced with another loan. It’s very important to get as long a term as possible and an amortization that works due to the fact that it’s often expensive to refinance a commercial mortgage when you consider a new appraisal, title policy and all the closing costs associated with a commercial loan.

Covenants

Covenants can be very complex, but in general they are the requirements a borrower must adhere to in an effort to stay in compliance with a loan agreement. In a standard commercial mortgage situation, covenants can include a simple debt service coverage calculation as well as a loan-to-value calculation. These are both very important to understand because if either of these types of covenants are violated they could result in a borrower making a payment to the bank to get back in compliance and back in good standing with the bank. In a simple debt service calculation, a borrower is typically required to show at least 1.25x free cash flow coverage, which can be calculated by taking annual debt service (annual principal + interest) times 1.25. For example, on a $2,500,000 loan with a 20-year amortization at 5%, annual debt service will be around $200,000 per year. In this instance, a borrower’s net income per the financial statements we’ve talked so much about must show at least $250,000 (1.25 times $200,000 = $250,000). In addition to debt service coverage, certain loan-to-value calculations much be adhered to in order to remain in compliance. With most commercial mortgages, Loan-T0-Value requirements are around 75%, which means the loan cannot be more than 75% of the appraised value of the property. This is not something a borrower typically has to worry about except in situations where value may be diminished due to market conditions. However, in this type of situation a borrower could be required to make a payment in the amount necessary to maintain a 75% LTV. Using the example of a $2,500,000 loan from above and a 75% LTV requirement the appraisal must be at least $3,333,333 to remain in compliance. Any reduction in appraised value may not impact the loan during the initial 5 year term, but could sure cause problems when that loan needs to be refinanced after that term.

I’m hopeful the content in this series have been helpful to our amazing community of volleyball club directors and I’ve really enjoyed exploring these topics with you. As the CEO of PaidUp, I’m here to do everything I can to support the volleyball community, which could certainly include a 1:1 conversation with a club director on this topic of obtaining financing for a volleyball facility. Please do not hesitate to reach out to me directly at allan@getpaidup.com if I can be of service to you or help in any way. Until then, keep doing great work to support our youth athletes and this amazing sport!

About the Author

Allan is the father of three boys who are big time travel lacrosse players. As a father and CEO of PaidUp, he totally gets what club directors and parents face every day as we try to provide the best for our children. Allan is also a recovering banker so he grew up (professionally speaking) helping small businesses thrive! Don’t hesitate to pick his brain how to run a great club! Allan can be reached directly at allan@getpaidup.com you can schedule a time to connect by clicking here: https://paidup.as.me/.